Alibaba Group Holding Ltd. has lifted the curtain on its plans to go public.

The Chinese online-shopping behemoth’s filed paperwork for its hotly anticipated initial public offering Tuesday, a step toward what could become one of the largest public debuts in history.

Founded in Jack Ma’s apartment 15 years ago, Alibaba has grown into the largest e-commerce company in the world’s most populous country, one that dwarfs its U.S. counterparts. The Wall Street Journal has reported that the combined transaction volume of its Taobao e-commerce marketplace and another Alibaba-run shopping site called Tmall reached $240 billion last year. That’s triple the size of eBay Inc., and more than double the size of Amazon.com Inc.

We here at MoneyBeat headquarters will be poring through the filing, providing real-time commentary and analysis. Follow along with us in real time.

How does Alibaba make money? About 84% of the company’s revenue comes from its China commerce businesses, such as its Taobao and Tmall sites, according to the e-commerce giant’s IPO prospectus. International commerce accounts for 12% of the top line, while cloud-computing and Internet infrastructure represents 1.9%. Alibaba investor Yahoo has disclosed the company’s revenue in its own quarterly filings, but the breakdown of revenue among Alibaba’s businesses has been a question mark for investors.

If you’ve been saying to yourself, where’d this Alibaba thing come from?, here’s your answer: 1999. That’s the year Jack Ma founded the company. In tech-company years, therefore, it’s already something of an old-timer.

Goldman Sachs currently sits at the top of global IPO bookrunner rankings by deal volume, according to Dealogic, followed by Morgan Stanley and J.P. Morgan. Those three banks hold the same positions on the bookrunner league table for US-listed IPOs.

Alibaba’s risk factors take up nearly 27,000 words. They run the gamut from maintaining its brand trust to depending on the “reliability of the Internet infrastructure in China” to the fact the Office of the US Trade Representative has in the past labeled its cites as “notorious markets.” (A label since removed, the filing says.)

The first risk Alibaba displays, which typically means its most important for investors, is the “trusted status of our ecosystem” and the possibilities of issues hampering its operations and health.

“If we fail to balance the interests of all participants in our ecosystem, buyers, sellers and other participants may stop visiting our marketplaces, conduct fewer transactions or use alternative platforms, any of which could result in a material decrease in our revenue and net income,” the filing says.

That balancing act includes such decisions as who to charge and how to make money.

And in an echo of Facebook’s S1 filing, Mobile is a prominent listed risk as well:

“An increasing percentage of our users are accessing our marketplaces through mobile devices, a trend that we expect to continue. Our ability to monetize our mobile user traffic is critical to our business and our growth. We face a number of challenges to successfully monetizing our mobile user traffic.”

Meanwhile, Alipay is listed as a key risk factor. The filing lists possible concerns about Alipay’s regulations and security. “Regulators and third parties in China have been increasing their focus on online and mobile payment services, such as those provided by Alipay, and recent regulatory and other developments could reduce the convenience or utility of Alipay users’ account.”

Alibaba didn’t start in a garage, like so many Silicon Valley companies, but in an apartment.

In Jack Ma’s apartment, to be specific. “Our 18 founders first gathered in Jack Ma’s apartment in Hangzhou in 1999 and founded Alibaba.com,” the filing states.

“Our founders and management would go on to launch a number of our core businesses from that apartment, including Alibaba.com.cn (now known as 1688.com), Taobao Marketplace and Alimama, meeting in the same spirit of partnership and with the same goal: to make it easy to do business anywhere.”

As a risk factor, Alibaba has what are known as some key men, including but not limited to one Jack Ma, the founder and executive chairman. Here’s how he’s described for investors worried about what would happen without him.

Our future success is significantly dependent upon the continued service of our key executives and other key employees. If we lose the services of any member of management or key personnel, we may not be able to locate suitable or qualified replacements, and may incur additional expenses to recruit and train new staff, which could severely disrupt our business and growth. In particular, Jack Ma, our lead founder, executive chairman and one of our principal shareholders, has been crucial to the development of our culture and strategic direction.

Meanwhile, the rest of the employees are hot commodities, and the company may have to pay up to keep them.

Competition for talent in the PRC Internet industry is intense, and the availability of suitable and qualified candidates in China is limited. Competition for these individuals could cause us to offer higher compensation and other benefits to attract and retain them. Even if we were to offer higher compensation and other benefits, there is no assurance that these individuals will choose to join or continue to work for us. Any failure to attract or retain key management and personnel could severely disrupt our business and growth.

One point from the prospectus that shows how important Alipay will be going forward to the company is the relatively low mobile gross merchandise value for Alibaba in 2013, at $37 billion, compared to the almost $150 billion in mobile payments processed by Alipay in 2013.

That means likely more than $100 billion of Alipay’s mobile transactions in 2013 weren’t going to buying things on Alibaba’s e-commerce sites. Most of that amount was likely people in China sending money back and forth or using Alibaba’s Alipay Wallet application to pay bills or for other services.

That shows that as Chinese increasingly use smartphones, they’re finding other ways to spend or transfer money with their phones outside of Alibaba’s e-commerce sites. Alipay gives them a broader control over smartphone transfers and that’s the reason why a new move to take a stake in Alipay could push up the value of Alibaba as it readies to list.

Alibaba’s filing touches a lot on the potential damage that could be done if it is hacked or if it inadvertently releases user information. That includes at its marketplaces and at Alipay. The potential damages it warns of are potentially financial, legal and reputational.

Here’s one warning:

“Any systems failure or security breach or lapse that results in the release of user data could harm our reputation and brand and, consequently, our business, in addition to exposing us to potential legal liability.”

And another:

“As techniques used to obtain unauthorized access to or sabotage systems change frequently and may not be known until launched against us or our third-party service providers, we may be unable to anticipate, or implement adequate measures to protect against, these attacks.”

The prospectus also shows the sheer scale of businesses associated with Alibaba. Total payment volume on Alipay in 2013 was $519 billion, more than double PayPal’s total of $180 billion in the same year. Through its cooperation with 14 strategic delivery partners Alibaba uses more than 950,000 delivery personnel. It also has more than 980,000 cloud computing customers, most of whom are likely merchants who lease out computing power to streamline the operation of their shops on Alibaba’s e-commerce platforms. The company also has more than 342,000 small businesses taking out loans from the company. Alibaba uses its record of vendor performance to distribute loans and last year said it had a loan book of around $2 billion.

The size of Alibaba is apparent in metrics in the filing like “gross transaction volume,” a measure of the total dollar amount of sales done at its online retail marketplaces. It was $248 billion last year, or 3.2 times the volume of eBay (which weighed in at $76.5 billion, ex-autos.)

Alibaba saw 231 million active buyers on the China retail sites last year. It’s the largest online and mobile commerce company in the world by gross merchandise volume, it says, citing “industry sources.”

Alibaba’s initial SEC filing makes clear something that Yahoo discovered in 2011: The Chinese company’s corporate structure gives shareholders something less than full ownership of the good stuff. The document describes how licenses to operate its various websites are held by structures called variable interest entities “generally majority-owned by Jack Ma” to comply with Chinese law. The arrangement, the filing notes, “may not be as effective in providing operational control as direct ownership.” The structure came into play in 2011, when Alibaba made its e-payment arm Alipay a separate business, triggering a dispute with shareholder Yahoo.

And not much of interest or specificity on executive comp. Salary and profit-sharing numbers for the partners are all left blank. The company paid out about $344 million in share-based comp last year. And as of Dec. 31, Jack Ma holds about 2.5 million shares through options and restricted stock grants, most of which are exercisable at $5 a share. Joseph Tsai holds about 2.4 million shares through a similar setup. Other senior executives hold a nonreportable number (so, under 1% of total shares), mostly in options with exercise prices ranging from $5 a share to $18.50 a share.

In sum: “This governance structure and contractual arrangement will limit your ability to influence corporate matters, including any matters determined at the board level.”

How could that change? Not easily. Alibaba’s partnerships control over the majority of the board will remain in place “for the life of the Alibaba partnership” and can only be amended by a vote of 95%.

If that’s not enough protection, the next risk factor lists anti-takeover provisions including the ability of the board to issue special preferred shares at any time, with any rules the board wants, without any shareholder vote. It will also have a staggered board that would prevent the whole thing being removed in one year.

“These provisions could have the effect of delaying, preventing or deterring a change in control, and could limit the opportunity for our shareholders to receive a premium for their ADSs, and could also materially decrease the price that some investors are willing to pay for our ADSs.”

Meanwhile, with all that control, there’s also a risk factor that Mr. Ma may have loyalty to other companies he’s involved with and can’t be sure to act, necessarily, in best interests of Alibaba.

Alibaba’s IPO shows the growing ambitions in China and abroad for the company, which was founded in 1999 in the eastern city of Hangzhou by Ma, a former English teacher. Alibaba’s first business was a site to connect Chinese suppliers with Western buyers.

Alibaba had $7.9 billion in cash, cash equivalents and short term investments, and $4.9 billion in total long-term debt as of the end of last year—important metrics as Alibaba continues an acquisition spree aimed at taking the company into new business areas and bolstering its hand against rivals.

Alibaba valued itself at roughly $109 billion in April, based on disclosures in the document about the numbers of shares outstanding and its internal estimate of the value of each share. Including some stock-based compensation and the conversion of certain preferred shares, the valuation is $116 billion. However, the company could seek a higher valuation when it sells shares. Analyst estimates have ranged from $136 billion to $245 billion.

Alibaba said Monday it plans to raise $1 billion, although that figure is widely seen as a placeholder. People familiar with the company have said it could raise more than $20 billion in the deal, not expected until at least later in summer.

Well, here is a list of the 10 biggest IPOs on record:

If Alibaba raises $20 billion, the e-commerce giant would be the fourth largest IPO on record. And where would it rank among tech and Internet IPOS? No.1. Here’s the list:

The filing shows that revenue growth is outpacing the growth in expenses. Alibaba’s cost of revenue, which includes various operational expenses and traffic acquisition costs as well as payment processing fees it pays to Alipay and other financial institutions, increased 33% to 9.9 billion yuan ($1.59 billion) in the nine months through December from a year earlier. The company’s product development costs rose 34% to 3.89 billion yuan in the same period. For those nine months, Alibaba’s revenue jumped 57%, more than making up for the increase in expenses.

There are several risks to the company’s operations in China. (People’s Republic of China, or PRC in the filing.)

One likely somewhat unfamiliar to US investors, the company is required to monitor for “content deemed to be socially destabilizing, obscene, superstitious or defamatory, as well as items, content or services that are illegal to sell online or otherwise in other jurisdictions in which we operate our marketplaces, and promptly take appropriate action with respect to such items, content or services.”

But “It may be difficult to determine the type of content that may result in liability to us, and if we are found to be liable, we may be subject to fines, have our relevant business operation licenses revoked, or be prevented from operating our websites or mobile interfaces in China.”

Then there’s the economy. China’s economy “differs from the economies of most developed countries in many respects.” For instance, the government “has implemented in the past certain measures, including interest rate increases, to control the pace of economic growth. These measures may cause decreased economic activity, which in turn could lead to a reduction in demand for our services and consequently have a material adverse effect on our businesses, financial condition and results of operations.”

The legal system is different too as prior court decisions “may be cited for reference but have limited precedential value.”

Takeovers will prove difficult: “PRC regulations regarding acquisitions impose significant regulatory approval and review requirements, which could make it more difficult for us to pursue growth through acquisitions.”

That takeover warning brings us to another risk factor, that of possibly being declared monopoly: “We may receive close scrutiny from government agencies under the PRC Anti-Monopoly Law in connection with our business practices, investments and acquisitions. Any anti-monopoly lawsuit or administrative proceeding initiated against us may result in our being subject to profit disgorgement, heavy fines and various constraints on our business, or result in negative publicity which could harm our reputation and negatively affect the trading price of our ADSs.”

Another risk factor that comes up in several different ways is intellectual property, or IP.

For one, Alibaba relies on it and operates in China: Intellectual property protection may not be sufficient in China or other countries in which we operate. Confidentiality agreements may be breached by counterparties, and there may not be adequate remedies available to us for any such breach. Accordingly, we may not be able to effectively protect our intellectual property rights or to enforce our contractual rights in China or elsewhere.

For another, it may face suits from others over IP: We have been involved in litigation relating principally to third-party intellectual property infringement claims, contract disputes, employment related cases and other matters in the ordinary course of our business.

Oh and there’s the possibility it gets sued over trademarked or copyrighted material that appears on its marketplaces: Although we have adopted measures to verify the authenticity of products sold on our marketplaces and minimize potential infringement of third-party intellectual property rights through our intellectual property infringement complaint and take-down procedures, these measures may not always be successful. We may be subject to allegations of civil or criminal liability for unlawful activities carried out by third parties through our online marketplaces.

This is where the US has in the past, though not now, listed the company as “notorious markets” for listing of counterfeit and pirated goods.

To add to that, its growing size is drawing a closer spotlight, it warns.

Because of Chinese rules against foreign ownership of telecommunications properties, Alibaba’s had to get very creative in how it structures its operations.

“Due to PRC legal restrictions on foreign ownership and investment in, among other areas, value-added telecommunications services, which include the operations of Internet content providers, or ICPs, we…operate our Internet businesses and other businesses in which foreign investment is restricted or prohibited in the PRC through wholly-foreign owned enterprises, majority-owned entities and variable interest entities.”

This chart is what the company called the “simplified illustration” (again, click for larger version):

Alibaba

Interesting note about those variable interest entities: “Our variable interest entities are generally majority-owned by Jack Ma, our lead founder, executive chairman and one of our principal shareholders, and minority-owned by Simon Xie, one of our founders and a member of our management.”

“There’s no question Alibaba is the biggest marketplace in the world,” said Sucharita Mulpuru, retail analyst at Forrester Research Inc., a market research firm. The IPO filing showing the scale of it “is going to open people’s eyes and create a lot interest in Chinese e-commerce in the U.S,” she added.

“Since our inception, we have not declared or paid any dividends on our ordinary shares. We have no present plan to pay any dividends on our ordinary shares in the foreseeable future. We intend to retain most, if not all, of our available funds and any future earnings to operate and expand our business.”

“The biggest thing I’ve learned so far is how much mobile is driving their growth, and it seems to be reaccelerating, even though they’re already a big company,” said Jane Snorek, senior research analyst at Nuveen Asset Management, which oversees $120 billion.

Ms. Snorek said she’s looking for more data on user engagement, such as how much time customers are spending on Alibaba’s sites and the history of their purchasing activity. “My big thing on any Internet company is, you’re growing your users and they’re using your site more often,” she said.

Speaking of Alibaba’s cloud computing business, Ms. Snorek said: “The size of their cloud in revenue and users, I think will be an upside surprise to most people.” She added: “They’ve only just recently been talking about that but it looks like they’ve been running that for a while and are already breaking out their revenues.”

Inside Alibaba Group Holding Ltd.’s filing on Tuesday for a U.S. initial public offering are three words well-known to China-focused investors but alien to many others: variable-interest entity. Though it sounds arcane, the legal structure is critical to understanding how the Chinese company works.

Alibaba says the licenses to operate various websites in China are held by variable-interest entities, or VIEs, that are 100% owned by Chinese citizens. Specifically, they are controlled by Alibaba’s founder and chairman, Jack Ma, and not owned by the main Alibaba company that’s filing for the IPO. The arrangement, it says, is required under Chinese law.

The licenses the VIEs hold are critical to its business, the filing says, and its contracts with the vehicles “give us effective control over each” of the VIEs. That said, Alibaba said it relies on VIE equity holders to perform their contractual obligations to the company. “These contractual arrangements may not be as effective as direct ownership in providing us with control over our variable interest entities,” it says.

The filing showed the extent to which Alibaba is generating cash, but also consuming resources. Alibaba noted it has “incurred substantial indebtedness,” revealing it had drawn down all of the $8 billion credit facility it took out with a group of large banks last year. The company said it drew down $3 billion from that credit line in April.

Alibaba may be associated with China and the Chinese market, but it is an oddly global company: operates in China through a variety of onshore and offshore subsidiaries, incorporated in the Cayman Islands, and – after the IPO – listed on the New York Stock Exchange. Or Nasdaq. They haven’t decided which yet.

One analyst tells us she was disappointed in the filing’s failure to break out more details on the company’s main businesses, including seperate results for two main units, Tmall and Taobao.

“What you want to see is some financial metrics on Tmall vs Taobao vs Alipay,” said Grace Su, senior research analyst at ClearBridge Investments, which oversees $94.8 billion. “Within the domestic China business, you want to see [disclosure on] those different elements because those do have different economics—just like in eBay’s businesses of the marketplace and PayPal, those are very different. The mix of that really will affect the overall margins.”

Some Americans, apparently, didn’t wait for the IPO to invest in Alibaba. The company says that as of Dec. 31, about 171 million of its 2.3 billion ordinary shares outstanding were held by shareholders of record in the U.S.

One element missing from Alibaba’s massive initial public offering prospectus–weighing in at 248 pages before the notes and exhibits–is a letter from founder Jack Ma.

People familiar with the matter had said that some missive was in the works, reminiscent of the letters Amazon.com chief Jeff Bezos or Google founders Larry Page and Sergey Brin crafted for their IPO filings, to outline their vision for their companies and industries.

Mr. Ma did write a letter – but only to employees – one person with knowledge of the matter said.

If you wonder why Alibaba’s IPO is expected to be so big, here are two charts that help answer that question.

Alibaba has been around for 15 years, far longer than Google, Facebook and Twitter had been when they went public. Its hardly surprising then that the largest e-commerce company in the world’s most populous country would have revenue and profits that dwarf of those three firms when they went public.

Wondering why Alibaba didn’t break out revenue figures for its Taobao and Tmall websites? Perhaps the answer lies on page 86 of the filing:

Our operating philosophy is to manage our various business units to a single profit and loss, or “P&L,” rather than setting compartmentalized P&L targets for each business unit. We believe placing specific financial targets, such as revenue, margin or profit, for individual businesses or managers would create barriers against cooperation, damages the network effects among our marketplaces and negatively impacts the long-term profit potential of our business. We instead ask our managers to be accountable for operating metrics that reflect the health of our marketplaces and the contribution of their units to our entire business. We believe this approach is consistent with the spirit of the Alibaba Partnership as it closely aligns interests, encourages collaboration and focuses leaders on building a sustainable and thriving ecosystem.

Alibaba’s Taobao Marketplace is a veritable bazaar of small retailers, and perhaps not too dissimilar from bazaars of old, many vendors on Taobao probably aren’t paying taxes, as Alibaba’s filing admits: “A significant number of small businesses and sole proprietors operating businesses through storefronts on Taobao Marketplace may not have completed the required tax registration. PRC tax authorities may enforce registration requirements that target small businesses or sole proprietors on Taobao Marketplace and may request our assistance in these efforts.”

The filing notes that Alibaba may be required to provide tax authorities with information on its sellers and that heightened enforcement of taxes on e-commerce transactions could harm many Taobao vendors, and in turn Alibaba itself. Given just about everyone can agree that Alibaba is very big indeed, it seems only a matter of time before the Chinese government makes sure it gets in on the action.

Comments (5 of 17)

Just for holiday entertainment, feel free to go to the Aliexpress or Alibaba websites and type any luxury brand you can think of in the search box.....the results are hilarious!......it's a 95% off sale!

I wonder if the Underwriters of the IPO ever actually visited the website(s)?

12:04 pm November 28, 2014

Deep Throat wrote:

Well, if the WSJ staff has managed to wade through my previous posts you are probably asking yourself “How could this happen?”….I asked myself the same thing many times over….here’s how this could happen:

1.)There are woefully ineffective accounting controls in place to prevent this sort of BABA-esque misrepresentation. Ref: the great work of Professor Paul Gillis on his ChinaAccountingBlog.

2.) There’s little/no affiliation/oversight between Chinese public accounting firms and US Firms. i.e.) PricewaterhouseCoopers Zhong Tian LLP has no financial or reporting relationship to PWC New York or any other PWC office. The firms operate independently and are more like franchises or clubs than subsidiaries. Ref Gillis

3.)By my count there have been more than 100 "forced" de-listings of Chinese ADR’s over the last few years. Nice summary regulatory inadequacies and the repercussions of same in “How they fell: The collapse of Chinese cross-border listings” as detailed in a December 2013 McKinsey report.

4.)The SEC is extremely limited in what it can and can’t do once a firm is listed.

5.)Chinese Public Accounting firms treat audit work papers as protected under the “state secrets” laws and respond to SEC requests citing same. Price Waterhouse Coopers China(PWCC), is not regularly inspected by PCAOB as required by US Law (p61) The disclosures (p61&62) also describe the January, 2014 ruling which bared PWCC from practice before the SEC, subject to appeal, as well as the operational consequences to BABA, including "delisting" should PWCC be unable to practice before the SEC. The net effect of this disclosure, in my opinion, is that the IPO is based on un-audited, unverified numbers.

6.)It took the SEC decades to catch Bernie Madoff and he had an office in Mid-Town. Could you imagine what he might have done if his business had been “Made in China”?

11:43 am November 28, 2014

Deep Throat wrote:

More from the 9/22/14 424(b)4....ref(x) are to filing page numbers.........BABA's public accountant, Price Waterhouse Coopers China(PWCC), is not regularly inspected by PCAOB as required by US Law (p61) The disclosures (p61&62) also describe the January, 2014 ruling which bared PWCC from practice before the SEC, subject to appeal, as well as the operational consequences to BABA, including "delisting" should PWCC be unable to practice before the SEC. I wonder if Jack would give the $13 billion back if that happened? He seems like a nice enough guy.

11:35 am November 28, 2014

Deep Throat wrote:

More....from the 92/222/14 424(b)4......BABA's public accountant, Price Waterhouse Coopers China(PWCC), is not regularly inspected by PCAOB as required by US Law (p61) The disclosures (p61&62) also describe the January, 2014 ruling which bared PWCC from practice before the SEC, subject to appeal, as well as the operational consequences to BABA, including "delisting" should PWCC be unable to practice before the SEC. I wonder if Jack would give the $13 billion back if that happened? He seems like a nice enough guy.

10:54 am November 28, 2014

Deep Throat wrote:

So, here are the financial Implications if BABA is indeed the greatest disaster in the history of global finance: (for those new to the thread you might want to start from my first posts to get a feel for the plot development)

According to the September 13F's, hedge funds (Viking, Soros, Paulson, Shaw, Third Point, et al) owned tens of billions of BABA; Yahoo's Market Cap is comprised almost entirely of $44B BABA stake it owns. The rest of the BABA stock (and soon bonds) is slowly making its way into Index Funds, Funds of Funds, Retirement Plans and Individual accounts.

When this scheme is discovered, the results will be devastating. BABA stock will be worthless. Yahoo will be out of business. The current Market Cap of Chinese ADR's including BABA is just north of $1.5T (US& Dual Lists included). They will all get an indiscriminant, overnight haircut, causing a liquidity crisis the likes of which we've never seen. What happens next is anybody's guess.